Common business pitfalls

How not to find yourself on the losing end when going into business or undertaking a merger.

Peter O’Halloran - Tax advice

When businesses are changed, for whatever reason, many business people – the more honest ones at least – could find themselves losing financially. What I mean by a ‘business change’ is, for instance, the merger of two entities, or the purchase of the stock and assets of another company, or a ‘lock, stock and barrel’ sale, or simply the absorbing of a new partner or shareholder into a firm.

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Very often, the parties to a change, be they the purchasers, the principal partners or main shareholders, are very enthusiastic at the start. But all too often the optimism disappears, as reality sets in, usually in the form of a financial loss. In such cases, if there’s a lack of documentation, or if the documentation isn’t up to scratch, not much can be done to recover this loss.
Take some time to document all activities during a business change and you’ll avoid much financial loss. Here are some of the other common pitfalls to watch out for…

Going concern
The purchase of a going concern, where the seller remains in office, will sometimes fall flat if the purchase price is to be paid from the expected turnover. The costs associated with the activities of the seller are very often lost. A clause should be inserted in any agreement where a business person operates from the premises, or is financed by a buyer, that, if the sale fails, the costs, at a set rate, are recoverable.

Tax complications
VAT complications sometimes occur when one business person contracts with another to purchase the business and begin a new company. Because VAT registration takes time, trade is then often done through the old firm, per agreement. The problem is quantifying the trade if things go wrong, because the different business sales will be mixed. It’s also illegal to use another person’s VAT registration.

Restraints
The beginning of a business relationship is the best time to document the restraints of trade in terms of area and so on, that will be enforced if the business doesn’t work out. Such agreements help to keep everyone honest. Exit and penalty clauses deserve just as much attention. A well-thought-out agreement will assist in keeping friendships afloat if the business does go wrong.

Personal profits
Although company and partnership law is quite clear that no ‘secret profit’ may be made, often a farmer, for instance, will agree to go into business with a wholesaler. The amount of profit allowed the farmer by the wholesale business associate and the right of the wholesale associate to inspect the accounts of the business must then be clearly set out. If this isn’t done, the parties may begin to harbour resentments that could hurt the business. Potential conflicts in terms of markets that might be available to either party exclusively must also be spelt out.

Own risk
Contributions by the financially strong party are made at their own risk. Each party should bring similar contributions to the business. If this isn’t possible, the consequences must be discussed and agreed upon beforehand. This is a major source of dissatisfaction in business.

Hours and pay
Hours of work and remuneration are other potential sources of conflict. Certainly, grossly uneven working hours is a cause of resentment among partners or shareholders in smaller companies. Keeping communication open and honest goes a long way to making business relationships healthy. When people work well together and there’s goodwill between them, the productivity and value of the business simply has to be positively affected.

Peter O’Halloran is head of tax at BDO, Gaborone. Contact him on 00267 390 2779 or at [email protected]. Please state ‘Tax’ in the subject line of your email.